Research pays your taxes: research investments can deliver a return more quickly than most metalcasters expect

Modern Casting, Jan, 2008 by Adam Herman, Michael Devereaux, II, Richard L. Wile

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Didion Foundry, St. Peters, Mo., found a way to make its research dollars pay off immediately. Instead of going the traditional route--first searching for a more cost effective way of doing things, then implementing the new ideas to receive a return on its investment--the company went straight to the government.

By reporting improvement processes that qualified as research to the Internal Revenue Service (IRS), the company tapped into the research and experimentation (R&E) tax credit, also known as the research and development tax credit. Didion received cash up front just by doing what all good metalcasting facilities already do--improving their processes.

The company then used the proceeds from the tax credit to invest in metallurgical testing equipment, as well as new electrical systems in its furnaces. According to John Didion, the company's president, the R&E tax credit was a shot in the arm that allowed him to reinvest in his company. And it provided incentives for improving the systems and operational efficiencies of his metalcasting facility.

Now, because the R&E tax credit has been expanded to include a variety of new activities, metalcasters like Didion Foundry that invest in research can receive money back from the government before they've even seen a return on their research investment.

Metalcasters that look to develop or improve casting processes, design new or improved manufacturing capacity, such as melting facilities and molding lines, or develop new or improved techniques for the production of castings all are eligible for a refund from the IRS, as well as some state governments.

Refunds for Research

The R&E tax credit was created to increase the competitiveness of the American manufacturing industry and can be a valuable resource to our nation's metalcasters. It has been in existence since 1981, but recent regulations have relaxed the definition of qualified research activities and the associated recordkeeping requirements. Many companies that were not previously eligible may now take advantage of this federal tax credit. In 2003, the last year for which such statistics are available, a total of 4,924 companies filed the IRS form required to claim the R&E tax credit. Of these, 337 companies were in the fields of primary and fabricated metal manufacturing, which includes metalcasters.

The R&E tax credit, available to all entities filing a federal tax return, is a wage-based credit available for the development or improvement of products, processes, techniques, formulas, inventions or software. In addition to qualified wages, companies may capture supply costs for prototypes, as well as 65% of any contracted labor used during the development process.

Furthermore, the changes to the regulations are retroactive, meaning companies may file amended returns to obtain refunds on previously paid income taxes. Companies may recapture taxes paid up to four years ago in some cases. In addition, more than 30 states offer a modified R&E tax credit.

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Companies can benefit both by deducting research expenditures and claiming a credit. While the research expenditures represent a reduction of taxable income, the R&E tax credit is a dollar-for-dollar reduction of tax. Additionally, any fees paid to advisors for documenting the credit are deductible in the year in which they are paid. The R&E credit is calculated by comparing recent years' research activities to a base amount, with 20% of the increase in activities captured as the tax credit. Companies must first use the credit to offset the tax in the year that the credit is generated. However, if additional credit remains, the company may carry the credit back one previous tax year or forward to the next 20 years.

Do You Qualify?

Research activities must satisfy four basic requirements to qualify for the R&E tax credit:

1. Qualified research activities are defined as the development or improvement of a business component, which is defined as a product, process, technique, formula, invention or software. From an industry perspective, metalcasting facilities continually develop and improve processes used in the production of castings. This can include gating and risering design and molding and melting techniques.

2. The research must be technological in nature. The process of experimentation used to discover the information must fundamentally rely on the physical or biological sciences, engineering or computer sciences. Furthermore, companies may use existing technologies and rely on existing principles to satisfy this requirement. Metalcasters rely heavily on the principles of physical science, as well as metallurgical and mechanical engineering, to develop or improve their products or processes.

3. The research must be intended to eliminate uncertainty concerning the development or improvement of a business component. Uncertainty exists if the capability or method for developing the business component is unknown, or if the appropriate design of the business component is unknown. Metalcasters constantly are searching for more efficient and effective ways to design or produce castings. Many specifications and alternatives must be considered in the casting process--adhering to tight tolerances, meeting special microstructure requirements, experimenting with different alloy types and achieving specified mechanical properties--all of which are uncertain at the outset of the part design and manufacturing process.